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Twitter's initial public offering, scheduled for Wednesday, looks to be one hot deal.

The stock sale has four elements that are key to a well-received IPO: a relatively small size, strong growth prospects, a huge perceived investment opportunity, and a reasonable price—at least compared with the prices of its publicly traded social-networking peers.

San Francisco–based Twitter, a microblogging service with 232 million users worldwide, also has an optimistic chief executive. "We've only scratched the surface of everything Twitter can become," CEO Richard Costolo says in a 37-minute investor presentation available on RetailRoadshow.com. The stock will trade under the symbol TWTR.

Much of the excitement about Twitter, which was founded in 2007, stems from its ability to target advertising based on the interests of its users, including 53 million in the U.S. More than 75% of tweeters access Twitter on smart phones and tablet computers, and 70% of its advertising revenue is mobile-based.
FacebookFB 0.639138844504247%Facebook Inc. Cl AU.S.: NasdaqUSD119.67
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(ticker: FB), the leading social-networking Website, has scrambled to keep pace with the public's move to mobile platforms. It still gets just under half of its ad revenue via mobile devices.

Twitter had modest revenue of $422 million in the first nine months of 2013—a tenth of Facebook's haul—and operated at a loss. Profit based on regular accounting standards might not occur until 2015 or 2016. Yet, potential investors are undaunted: Twitter's appeal is its growth.

"A company with triple-digit revenue growth will get Wall Street's attention," says Rory Maher of Hillside Partners, an independent research firm. Third-quarter sales of $168 million were more than double those a year earlier, versus 60% growth at Facebook.

Twitter is coming public at an earlier stage of development than did Facebook, whose IPO occurred in May 2012. Facebook's success in generating significant revenue and profit growth has legitimized social networking on Wall Street—and defied Barron's bearish prognosis. It will probably stoke demand for the Twitter deal, expected to be priced at about $20 a share.

Twitter looks like an intriguing speculative bet, but the IPO is likely to be dominated by institutional investors. That means retail investors might have to wait to buy stock until trading begins on Thursday, when the shares could be far above $20.

It's hard to justify paying $30 or more for Twitter, which would equate to a stock-market value of $21 billion, and an enterprise value (market value less net cash) of $19 billion. At that level, the company would fetch 19 times projected 2014 revenue. Facebook and other Internet high flyers, including
LinkedIn
(LNKD),
YelpYELP -0.24551724137931036%Yelp Inc.U.S.: NYSEUSD36.161
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175641More quote details and news »YELPinYour ValueYour ChangeShort position
(YELP), and
Zillow
(Z), trade for 11 to 13 times projected 2014 sales. The S&P 500 is valued at less than two times sales.

Twitter is due to sell 70 million shares in a range of $17 to $20. Assuming the deal is priced at the high end and the maximum 80.5 million shares are sold, the IPO would raise $1.6 billion—10% of the Facebook IPO size.

Twitter is trying to avoid a repeat of Facebook's IPO fiasco by selling a modestly sized deal reasonably priced. The Facebook IPO flopped because the company sold too much stock at a high price—about 20 times sales—amid investor concern about its ability to capitalize on the abrupt shift of its users to mobile devices.

Twitter's IPO range is in line with the price at which large grants of restricted stock have been made to employees during 2013. Twitter more closely resembles LinkedIn, which sold just a sliver of stock in its 2011 IPO. LinkedIn shares doubled in the first day of trading. The Twitter IPO likely will total about 10% of the company's fully diluted share count of about 705 million.

THE BULL CASE FOR Twitter is that "[its] user and advertising-monetization platform is in the early innings," Topeka Capital Markets analyst Victor Anthony wrote last week in initiating coverage. His "fair value target": an eye-popping $54 by the end of 2014. Doug Kass of Seabreeze Partners Management wrote that he'd be a buyer up to $32.50 a share, arguing that Twitter has a "first adopter and monopolistic position" and that the "shares have a reasonable valuation versus peers."

Twitter fans note that, based on the expected price, the company's enterprise value will be about $12 billion after the initial offering, or about a tenth of Facebook's, assuming a new-issue price of $20. Pinterest, an online bulletin board with no revenue, has been valued at nearly $4 billion in private financings.

Twitter's platform is simple: Users can tweet up to 140 characters, and follow others' tweets, many of which link to material on the Internet. The service has become an indispensable tool in reporting news and even fomenting revolution, as it did during the ill-fated Arab Spring. President Barack Obama announced his 2012 re-election win on Twitter, and Carl Icahn tweeted his initial Apple investment. Most news organizations use Twitter to drive traffic to their Websites.

MOST OF TWITTER'S AD sales come from "promoted" tweets that appear in users' personalized feeds. Advertisers pay only when someone clicks on their tweets. Twitter says user preferences allow for highly targeted advertising. Show interest in financial news and business personalities and you might get a tweet from JPMorgan.

Twitter began generating revenue in 2010 and is still building a global ad sales force. Its employee count of 2,300 is up nearly 100% over the past year. While 77% of Twitter users are outside of the U.S., just 26% of third-quarter revenue was international, highlighting the opportunity abroad.

Television could be a gold mine, as millions of Twitter users watch TV with a smart phone in hand, tweeting comments on their favorite shows or sporting events in progress. The TV industry has been eager to embrace Twitter; the cast and writers of shows such as Scandal and Vampire Diaries interact with viewers on Twitter during some broadcasts. The aim is to encourage people to watch advertiser-supported shows when they are broadcast, not via recordings at a later date, when the ads can be skipped. Twitter is developing various TV-related ad products.

The Bottom Line

Retail investors might not get their hands on Twitter until the stock has run up in post-IPO trading. It is hard to justify a share price of $30 or more.

Without current profit, Twitter probably will be valued on revenue, which is expected to total about $600 million this year, and could top $1 billion in 2014. The company's long-term goal is a 35% to 40% profit margin, based on adjusted earnings before interest, taxes, depreciation, and amortization. If Twitter can sustain 60% growth for several years, it could have more than $4 billion in revenue by 2017, $1.5 billion of adjusted Ebitda, and about $1 a share in earnings using conventional accounting.

Barron's tends to be cautious on richly valued stocks, but Twitter would look appealing at an IPO price of $20. Pay much more than that, however, and you might be tweeting your regrets later.